Stantec president and CEO Bob Gomes explained how the purchase of MWH Global gives the firm some leverage in additional overseas markets, and it plans to make full use of it.

The deal with MWH is expected to close sometime in May, which will see Stantec grow the proportion of its business it conducts outside of North America to 30%, from 3% currently.

Last week, the Edmonton-based firm confirmed the closing of its previously announced $604 million bought deal, which Gomes says gives it the flexibility to pursue additional deals in international markets, as well as fund the deal for MWH.

“We did that on the anticipation that we can go out with our integration strategy right away,” Gomes said of the financing, which priced Stantec shares at $30.25 each.

Gomes said the company is keeping its ear to the ground for similar “bolt-on” acquisitions in Australia, New Zealand, the United Kingdom and South America, swelling MWH’s presence in the respective regions.

The strategy is in keeping with Stantec’s existing approach to growth – it closes many small acquisitions every year within North America – adapting it to markets where MWH has a presence.

The MWH deal also prevents Stantec from becoming overly dependent on revenues from the oil and gas industry, as some analysts have noted.

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Stantec to acquire water resources infrastructure firm for $793-million

The Canadian engineering firm announced on Tuesday (29 March) that it had come to an agreement on an all-cash deal with MWH at a price of US$793 million.

Stantec says the acquisition of MWH, which has 6,800 employees worldwide, will increase its presence in “key targeted geographies” such as Britain, Australia, New Zealand, South and Central America, Europe and the Middle East.

“MWH brings a global presence and reputation in water infrastructure that will advance Stantec’s position as a top-tier design firm within the highly attractive global water market,” Stantec chief executive officer Bob Gomes is quoted in the official release.

For MWH, meanwhile, it hopes the transaction will enable it to thrive and grow amidst an increasingly complex industry landscape “by strengthening our combined ability to solve the most pressing water, transportation and infrastructure challenges today.”

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Little more than a month after it said it could grow its revenues organically this year, Stantec Inc (TSE:STN, Mkt cap 2.92B, P/E 17.47, Div/yield 0.10/1.35, EPS 1.77, Shares 94.26M) has performed something of a U-turn, now stating that it is “clearly impossible” to grow given the dramatic collapse in oil prices, the Financial Post reports.

Speaking at a CIBC investor conference last week, Stantec president and CEO Bob Gomes said the engineering giant is expecting “maybe zero to maybe a small retraction of our organic growth by the end of the year.”

Previously, Stantec had told investors to expect the company’s revenues to grow organically by 2% by the end of 2015. That announcement was surprising due to the fact that a significant decrease in oil prices had served to disrupt the Edmonton-based consulting firm’s energy and resources business – the company’s largest division – prompting it to lay off between 700 and 800 people in Alberta this year.

“With what’s happened in the oil and gas business in the last two months, since the end of the second quarter, it has just made it clearly impossible [to grow] when you do the math,” said Gomes last week.

Gomes was hopeful that new business from Stantec’s buildings and infrastructure division would offset the drop from oil and gas prices, but his latest comments suggests otherwise.

However, the 15,000-strong organisation still anticipates overall revenue growth, having acquired four companies so far this year.

AltaCorp Capital analyst Chris Murray expressed his surprise at the original 2%-growth target, but added that the economy in the U.S. has helped soften the blow of coming up short.

“They also benefit from the fact that, for the first time ever, U.S. revenues now represent the largest percentage of where their revenues originate from,” he said.

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As the Edmonton Journal reports, net income climbed 12.5% year-over-year to $164.5 million, with gross revenue up 13.1% to $2.53 billion. Diluted earnings per share increased 10.8% to $1.74.

Stantec president and CEO Bob Gomes credits the double-digit growth to the firm’s “diversified business model” and “consistent, disciplined strategy”, which have meant it was able to push on in the face of fluctuating market conditions.

A contraction in the engineering giant’s business related to the energy sector was offset by growth in its building and infrastructure business operating units.

For the 12 months ended December 31, 2014, Stantec’s oil and gas business enjoyed 2.9% growth, but things took a predictable turn in the final quarter, shrinking by 6.6% compared to the same period in 2013.

This prompted the Edmonton-based company into cutting around 300 jobs, with more jobs likely to be lost in the coming months, Gomes said.

“That is always a hard thing to do when you’re just a people business,” he stressed. “We understand, and I think our staff understand, that that is one of the ramifications of the oil and gas business.”

Stantec, which currently has more than 15,000 employees in more than 250 locations, expects overall 2015 gross organic revenue growth — excluding growth through acquisitions — to come in at around the 3% mark. But its Canadian business may see growth of 2% or less, with fewer big projects likely to get off the ground.

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Michael Sprung Interviewed by Mark Thorburn of SmallCapPower

Mark Thorburn: Founded in 2005, Sprung Investment Management helps clients moderate swings and market volatility through a value investing approach aimed at preserving wealth and providing a real rate of return after fees and inflation. They are known for employing philosophies that frequently run contrary to current investment trends. SmallCapPower met CEO Michael Sprung in May 2013 where he told us more about his investment strategy, current market use, and favorite stock mix. Can you tell our viewers briefly about your fund?

Michael Sprung: Well we don’t really manage as a fund. All of our clients are separately managed accounts. They tend to be for the most part individuals and families. A lot of what we manage is family trusts.

Mark Thorburn: Can you tell us about the investment strategy at Sprung Investment Management?

Michael Sprung: Well, we’re basically value investors. What does that mean? It means that we don’t think we’re smart enough to know what’s going to happen next week, next month, or next year but if you understand the company and if you analyze it properly over a business cycle, you should get some reasonable expectation of what company can earn.

And then after that it becomes a function of what do you pay for it. Generally speaking then, we’re looking for companies that are better capitalized than typical in the industry. We try to find a diversity of companies across different spectrums and we try to tie that all together when we are putting it in to a portfolio as to what that particular investor’s objectives are.

Mark Thorburn: What is your current overall view of stock markets in Canada and that United States?

Michael Sprung: Well certainly going into this quarter, we were quite concerned that the markets were quite a bit overvalued. Well, not quite a bit but somewhat overvalued, I guess is a better term. I mean, when we look at the fundamentals, the P/E of the TSX for instance is hovering around 15 times, which is not far off its long-term average. But when we look at price to book values for instance, we’re about two and a half times which is considerably above the long-term average and the mean.

We thought that going into the year, markets particularly in the US for tracing quite well ahead of the underlying fundamentals supporting the market. We thought that for a number of reasons. The private economy is growing relatively slowly. We’re seeing employment gains but they’re very, very meager at this point in time.

On the positive side in the US we have seen somewhat of a correction in the housing market, a little bit more stability there. Also the consumer there has deleveraged themselves to a much greater extent than they have, say, in Canada. So there are some positive fundamentals occurring in the US but then you’re looking at the political intransient on the other side of the large deficit problems that they’re dealing with there.

So when we look at the sort of longer term earnings projections that we could see, we thought that the market was somewhat vulnerable to a bit of a correction here. Certainly, that has been the case in Canada where we’ve had the commodities correction, and commodities being such a big part of the Canadian market. They have pulled the Canadian market down quite sharply with that.

Mark Thorburn: Are you surprised by the strength shown by the stock markets in the US despite the fact that the US economy still seems to be growing below the long-term average?

Michael Sprung: Yes, we have been somewhat surprised by that. As I’ve said before, the US is up over 11% year to date. And yet, despite the problems they have in Europe, we’ve seen some gains in the European markets as well. The world index largely is the result of the strength of the US is up close to 10% so far. When we look at EAFE as a region which includes Europe, that pulls it down to around 8.5% and then if you look at the emerging markets, the indicator is there, the index is there just slightly in negative territory.

So the US has been bounding ahead over the rest of the world, particularly Canada and we think that that is somewhat of a vulnerable position.

Mark Thorburn: So what are your views on Canadian stock markets?

Michael Sprung: Well, we think this is an opportune time for value investors like ourselves, people that have a three to five year time horizon to be looking for opportunities in the market. The commodities correction has certainly hurt the TSX which the material section and the energy section combined comprise a large part of the Toronto market.

We think that there are opportunities in both of those areas. Over the longer term, it’s our belief that commodities will be in demand again.

Mark Thorburn: What do you make of six years of cheap money in the western world without any meaningful economic growth to speak for? What should investors do to secure a decent return from their investments in the coming years?

Michael Sprung: Well, I think you’ve raised a couple of points there. We don’t believe this is necessarily a new paradigm, but we do believe that it is certainly the modus operandi of today. With the economies as weak as they have been, governments are loath to allow interest rates to go up too much.

But on the other hand, we’ve seen governments issuing a great deal of debt and eventually the day has to come when investors want to be paid for the risk their taking in buying that debt. I think longer term, we’re building some longer term inflationary fears into the market that will also could cause investors to worry somewhat.

So, from our view the dangers probably lie more in the fixed income market than they do in the equity market. As we were saying earlier, the underlying economy itself seems to be somewhat moving ahead.

Mark Thorburn: What types of investment options are you finding attractive in the current markets?

Michael Sprung: Well, as we are noting, there has been quite a correction in the resource side of the market, both in energy and materials. Again, you want to look for stronger companies that have the wherewithal to last out a period, however long it may be, and seize opportunities that will come up. I think over the next year, you’re going to see a lot of M&A activity both in the energy and the materials area where the weaker companies are forced to sell assets or in fact are absorbed by the stronger companies. But as demand for those commodities begins to build momentum as the recovery hopefully takes hold, then I think you’re going to see quite a good potential return in both of those sectors.

Mark Thorburn: There are experts that are holding a dim view of the Canadian economy. Are we looking into a real banking and debt crisis in Canada?

Michael Sprung: Well, I don’t think that we’re necessarily looking into a banking crisis. It is true that the large proportion of loans by Canadian banks are in the mortgage sector, and yes, the Canadian consumer certainly has overextended if you look at debt loads relative to disposable income. We have far surpassed where the U.S. consumer was several years ago, but we have not had the correction or the deleveraging that they have seen south of the border yet.

So therefore, there is some vulnerability, I think, in the macro sense, in real estate. However, we think that this is going to be quite confined to particular pockets.

Mark Thorburn: The last time we spoke, you mentioned that you had exposure to precious metals through investments and large cap gold producers like Barrick Gold and Goldcorp. What are your views on gold currently, and do you still believe in holding some of these gold producers?

Michael Sprung: Our exposure to gold, generally, has been restricted to 5% of the portfolio approximately, and yes, we did and do have exposure still to Barrick and Goldcorop. Barrick in particular has been hard hit by a number of events, not just the decline in the price of gold, but also the problems at Pascua-Lama, which is probably one of their largest developments in Chile and Argentina and also by some threats from the government of Dominican Republic to demand a greater share of the proceeds from the mining that takes place there.

The latter one is not necessarily unique to Barrick. A lot of companies face this when they deal with governments but once the mine is developed, they get a little bit hungry for a little bit greater share and over time, the ongoing profitability of those mines becomes more important than allowing them to close or go into hibernation.

The problem in Chile is a little bit more troubling, but nonetheless, our view is that Barrick has been so hard hit that, basically even if they were to lose Pascua-Lama, the net asset value of the company is greater than the market value reflects today.

Mark Thorburn: As a value investor, is it possible to find value plays in the smaller end of the market? If so, what would you look for in such securities and can you share any that you may like?

Michael Sprung: We from time to time have dipped our toe into the small cap or micro cap sector of the market, and I guess to us, that would be looking at companies probably with market caps of $200 million or less. We still have today some exposure in that area, but again, often what you want to do is balance something that you’re buying in that sector that perhaps has a lot more potential on the upside but maybe with something more stable within the same industry group.

Let me give you a couple of examples. Within the infrastructure area, we own Churchill Corp. To stabilize that, I guess that volatility to some extent, the other company owned in that sector is Stantec.

Mark Thorburn: What advice do you have for viewers for the remainder of 2013 and beyond?

Michael Sprung: Well I think the most important thing for investors today is to have a discipline and a philosophy and stick to it. Where I think retail investors get whipsawed the most is being scared out of their own stocks and that can happen quite easily. You buy a stock, you see it go down, you worry about whether you did it for the right reasons or not. Well, we do that too, but we re-evaluate. What were our assumptions going in? How have they’ve changed? Is there anything fundamentally different in this business than before? Is this a buying opportunity to add more? In most cases, it’s either that or we decide to stick with our guns because we’re looking through the cycle. As long as you have a diversified enough portfolio that not all of your eggs are in one basket that’s not all going down together, that’s something that I think investors really have to keep in mind.

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